Tax Policy

Brinkmanship Over the Bush Tax Cuts

Until recently, it was a given that President Barack Obama would make good on his campaign pledge to let the Bush-era tax cuts that benefited wealthy Americans expire at the end of this year. Ditto for his promise to maintain the tax cuts for households earning up to $250,000 a year.

This being an election year and the economic recovery looking shaky, Washington is having a rethink. While lawmakers from both parties want to keep the tax reductions for families earning less than $250,000, Republicans say this is no time to raise taxes and insist on continuing the cuts for high-income families, too. Now a game of political chicken is unfolding, and wealthy Americans could benefit.

All the tax cuts (passed under President George W. Bush in 2001 and 2003) will expire on Dec. 31 if Congress fails to act, an outcome neither party desires. The middle-class reductions gave couples a 10 percent rate on their first $14,000 in income, subsidies for college expenses, a higher child credit, and relief from the marriage penalty.

In theory, it should be easy for Democrats to extend just the middle-income cuts. Budget rules adopted by Congress earlier this year allow lawmakers to extend them without offsetting revenue increases. That's a huge break: Keeping the cuts for the 130 million households earning less than $250,000 will cost about $255 billion a year.

There is no similar budgetary escape hatch that would let Republicans extend the tax cuts for the wealthy. They must find $55 billion in revenue to make up for the cost of keeping top marginal rates at 35 percent and dividends and capital gains taxes at 15 percent, among other reductions.

Democrats will need at least one Republican to get the 60 votes required to overcome procedural roadblocks in the Senate. Even then a single Democrat could hold up any deal. "Anybody who wants to obstruct right now is in paradise," says Senator Ron Wyden (D-Ore.). Republicans are loath to let taxes on high-income households rise, arguing economic growth should trump deficit concerns. They may even hold the middle-class tax cuts hostage until they get their way. Ohio Republican Senator George Voinovich says he opposes keeping any of the Bush tax cuts with-out offsetting revenues.

Reluctant to break Obama's campaign promises, Democrats may blink and allow a one-year extension of the entire package. "The simplest solution this year would be to say 'we have a struggling economy; we don't want to raise taxes at all,' " says Roberton Williams, a senior fellow at the Tax Policy Center, a Washington research group run by the Urban Institute and Brookings Institution. Wyden says a short-term extension would be a hard sell to Democrats who "don't want to ratify another round of Bush tax cuts" they had opposed. The brinkmanship is also worrisome for Republicans, who would pay a heavy price if their tactics failed—and everyone's taxes went up.

The bottom line: High-income Americans could be the beneficiaries of a looming fight over whether to extend or let expire the Bush-era tax cuts.